Empirical Research On The Puzzle Of Idiosyncratic Volatility: China Evidence

This paper mainly includes three aspects:the existence of the puzzle of idiosyncratic volatility (higher idiosyncratic volatility, lower stock returns; lower idiosyncratic volatility, higher yield); whether the puzzle violated the "high risk, high return; low risk, low return" rule of financial risk pricing; why the puzzle does exist.Our kernel methods of this study are portfolio analysis, two-dimensional portfolio analysis and Fama-Macbeath regression analysis.Our result can be summarized as follow:First, both equally weighting methods and value weighting, the puzzle of idiosyncratic volatility does exist in the Shanghai A stock market stably. But the negative relationship between idiosyncratic risk and stock returns is dependent on risk measurement. Second, bankruptcy risk which represents idiosyncratic risk in large part has no stable relationship with stock returns and the positive correlation between returns and idiosyncratic volatility in holding period is stronger than the puzzle. Meanwhile, there is also a negative relationship between standard deviation and stock returns. If we do not say this violated the rule of financial risk pricing, it is difficult to assert the puzzle of idiosyncratic volatility violated the rule. Third, the turnover on behalf of heterogeneous beliefs has certain explanation ability about the puzzle. Meanwhile, the book-to-market ratio has weak ability to explain. But even both they also can't fully explain the puzzle of idiosyncratic volatility. Forth, the puzzle mainly existed in the stocks with highly price volatility, frequently turnover or small size. As these stocks are more susceptible to impact on investor sentiment, future studies should pay more attention to behavioral financial perspective.